Accounting Method: Equity or the Cost for Investments
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C2-1 Choice of Accounting Method
Understanding
Slanted Building Supplies purchased 32 percent of the voting shares of Flat Flooring Company in March 20X3. On December 31, 20X3, the officers of Slanted Building Supplies indicated they needed advice on whether to use the equity method or cost method in reporting their ownership in Flat Flooring.
Required
a. What factors should be considered in determining whether equity-method reporting is appropriate?
b. Which of the two methods is likely to show the larger reported contribution to Slanted's earnings in 20X4? Explain.
c. Why might the use of the equity method become more appropriate as the percentage of ownership increases?
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a. The concept of 'significant influence' is the standard given for deciding whether to report at equity rather than cost with a 20-50% ownership interest. One consequence of equity over cost reporting is that efforts made on behalf of the unconsolidated entity would then be reported in part on the financials statements of the parent. For example, if the parent extends management expertise which improves the profitability of the investment, then at equity, the parent shows the benefit of those efforts on ...
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